Interim results

Embargoed until 0700 7 August 2019

Ultra Electronics Holdings plc

("Ultra" or "the Group")

Interim Results for the six months to 30 June 2019

Making progress

·; A solid start to the year

o Benefitting from strong markets

o Good order book development

o Continued organic revenue growth

o Delivering as anticipated

·; Focus; Fix; Grow

o Ongoing strategic evolution and cultural change

o Increased investment in R&D and IT

o Progress on 'Fix' improvement initiatives

o Identifying additional future improvement and growth potential

·; Long term opportunities

o Key positions on new programmes

Simon Pryce, Chief Executive Officer, commented: 

"It has been a solid start to the year. Ultra is benefitting from strong US defence spend and increased demand on existing programmes. This helped us to deliver good order book and revenue growth and an improved financial performance in the first half. We are also making encouraging progress in changing Ultra's culture and on our strategic journey to become a more collaborative and value focussed application-engineered defence, critical detection and control solutions provider.

We have positive momentum into the second half and remain confident that 2019 will be a year of good progress for Ultra. Importantly, we have won good positions on a number of key new programmes which have significant long term potential. Together with our Focus; Fix; Grow initiatives, which are beginning to have an impact, this gives us confidence in the longer term improvement and growth opportunities for Ultra."

Webcast

Ultra Electronics will host a presentation to analysts on 7 August 2019 at 9.15am (BST) at Investec, 30 Gresham Street, EC2V 7QP. An audio webcast will be broadcast live via the following link http://bit.ly/ULE_H1webinar

Alternatively, a listen-only conference call will also be available on +44(0)330 221 0088; access code 787-558-277. An archive version of the presentation will be accessible on Ultra's website later today.

Notes:

(4) Underlying tax is the tax charge on underlying profit before tax. The underlying tax rate is underlying tax expressed as a percentage of underlying profit before tax.

(6) Bank interest cover is the ratio of underlying operating profit to finance charges associated with borrowings.

Enquiries:

CEO REVIEW

Overview

As anticipated, we have made a solid start to the year. We are benefitting from good growth in our major markets, particularly North American defence spend, and have won positions on a number of important new "programs of record". The order book grew by another 6.6% organically despite a significant sonobuoy order that would normally have been received in H1 not being placed until after the period end. We entered H2 with 93% order cover for the remainder of the year.

We achieved organic revenue growth in all three of our divisions and gross and net profit were both well ahead of H1 2018. As anticipated, gross margin was weaker than H1 2018 (when excluding the H1 2018 impact of cost over-runs at Herley), mainly due to mix issues. However, this was marginally worse than anticipated in our Aerospace & Infrastructure division (due to challenges in our Energy business from delayed customer orders and the impact of trade disputes impacting sales to China) and our Maritime & Land division (due to additional lower margin development work) but partially offset by mix benefits in Communications & Security.

Underlying operating margin was lower than the prior period (when excluding the H1 2018 impact of over-run costs at Herley), which mainly reflected the planned increases in investment in R&D, IT and "Fix" related projects (which will accelerate in H2), long term incentive accrual and the lack of the one-off gain on forex exposure recognised in 2018, which (as previously announced) is now hedged.

Although revenue growth in 2019 is first half weighted, we expect underlying operating margins to recover to more normal levels in H2.

Focus; Fix; Grow

We have made good progress on our Focus; Fix; Grow change agenda. We have appointed a Transformation Director to help to oversee and coordinate the Group wide business transformation initiatives to ensure programme management discipline, effective oversight and interdependency management. Our key priorities are:

Focus

Strategically, we intend to migrate, over time, from an aggregation of broadly autonomous site based businesses to a focused, application-engineered defence solutions provider, specialising in Maritime, Intelligence and Communication.

We will also continue to own and invest in our other critical detection and control businesses (specialist nuclear, forensics and aerospace) where we can see good opportunities for value creation.

We will pursue economies of scale and scope and deliver above market growth in our defence businesses through:

·; closer collaboration and coordination in technology and know-how;

·; more efficient utilisation of core competences and physical capabilities;

·; sharing and standardising best process and practice in key areas such as programme management, systems engineering, and commercial;

·; closer customer intimacy; and

·; more effective strategic relationship building, marketing and cross-selling.

We will also pursue economies of scale from more effective use of shared services. This includes further standardisation and centralisation of administrative processes and taking better advantage of shared support functions, such as IT, procurement, management and human resources.

We are in the process of developing detailed plans to support execution of this strategy and to identify the growth opportunity and performance improvement potential it will deliver.

We have also continued to align our portfolio to support this strategy and divested both our Airport Systems and Corvid Paygate businesses in the first half for a combined total consideration of £22.8m.

Fix

In parallel with the strategy development work, we have made good progress in the first half in four key areas in on our broader change agenda:

1) Culture and Talent - we have continued to strengthen our business and functional leadership and the governance and oversight environment. We have made good progress in developing the Group's vision, mission and values and we have refreshed our Group wide ethics policy and code of conduct; 

2) Organisational Design - we are reviewing the Group's organisational model to determine how best to structure the Group to deliver our strategy. Whilst this is unlikely to lead to wholesale changes, it will lead to changes in roles, responsibilities and the allocation of corporate, divisional and local resources;

3) Process and Practice - we are making some progress in improving a number of our core processes, particularly in the areas of commercial management, programme management and technology investment, although there is much more to do;

4) Infrastructure - we have delivered significant improvements in our underlying IT capability as planned, launching a collaborative intranet across the Group, and investment will accelerate into H2 as we further improve our group wide IT functions.

We have also made good progress on changing inefficient working capital management practices to optimise working capital throughout the year. Average rolling 12 month working capital turn improved to 6.8x at the end of June 2019 versus 6.4x at the end of June 2018.

Grow

In the first half we have won positions on a number of important new "programs of record" that will secure our growth for a number of years ahead, including two large sole-source IDIQ awards in our Communications & Security division and Maritime & Land division. We are already seeing the benefits of a more collaborative culture, using expertise and capability from across the Group to bid on new programmes. This enables us to de-risk solutions for our customers, which will increase our win rate over time.

Outlook for H2

Our major markets are continuing to grow and our strong technology base positions us well to meet our customers' needs.

We have a strong order book and positive momentum into the second half and remain confident that 2019 will be a year of progress for Ultra. Importantly, with a number of key new programme wins having significant long term potential and as our Focus; Fix; Grow programme begins to take effect, we see exciting long term future growth and improvement opportunities for Ultra.

FINANCIAL REVIEW

Orders

The order book increased organically by 6.6% to £1,014.1m (2018: £969.2m) compared to the prior period and showed 6.3% organic growth from the 31 December 2018 position of £983.9m, reflecting improving defence budgets, notably in the US, and some key wins on new and existing programmes. Order intake in the period grew organically by 12.4% to £449.9m (2018: £391.6m) and represents a book to bill ratio of 1.16 (2018: 1.12). The opening order cover for the second half is 93%.

Revenue

Revenue grew by 10.4% to £387.1m compared to the prior period. This represents organic(2) growth of 8.3%, reflecting improved conditions in our US market. Specific programmes include revenue from the recently won Next Generation Surface Search Radar development contract, military aircraft platforms and tactical command and control systems. Sterling weakened during the period, increasing reported revenue by 3.9%. The average US dollar rate in the six months to 30 June 2019 was $1.29 compared to $1.38 in the prior period. The disposal of the Airport Systems business early in the year reduced revenue by 1.9% compared to the prior period.

Underlying operating profit and margins(1)

Underlying operating profit was £52.9m (2018: £47.9m), an increase of 10.4% on the prior period. The underlying operating margin(1) was 13.7% (2018: 13.7%). Excluding the over-run costs at Herley in the prior period, H1 2019 underlying operating margin declined, as expected, due to:

·; mix, predominantly sonobuoys and reduced radio sales in H1;

·; increased investment in R&D, IT and other "Fix" programmes;

·; delayed orders and challenges selling into China in our Energy business;

·; additional lower margin development work;

·; increased incentive accrual; and

·; lack of the £1.2m one off gain on forex exposure gained in 2018, which is now hedged. 

Ultra continued its programme of R&D, with total spend in the period of £70.0m (2018: £72.8m). Company funded investment increased to £13.0m (2018: £12.6m), while customer funding decreased to £57.0m (2018: £60.2m). The overall level of R&D investment in the period was 18.1% (2018: 20.8%). The rate of company funded investment is expected to increase further in the second half of the year.

Finance charges

Net financing charges(5) increased by £2.2m to £6.5m (2018: £4.3m). £0.7m of the increase is due to the adoption of the new leasing standard, IFRS 16, from 1 January 2019. £0.9m of the increase is due to the previously announced change to the Group's allocation of pension finance charges; these were previously classified as non-underlying items and from 1 January 2019 are included within our underlying finance charges. The remaining £0.6m increase reflects the higher average net debt compared to H1 2018, due to the share buy-back that was completed in January 2019, as well as higher US interest rates. The interest on bank debt was covered 11 times (2018: 11 times) by underlying operating profit.

Profit before tax

Underlying profit before tax(1) was £46.5m (2018: £43.6m). IFRS profit before tax increased to £37.9m (2018: £20.0m), as set out below:

* as set out in the Finance charges section above, the pension finance charge is included within underlying finance costs from1 January 2019.

Reported IFRS profit before tax

As expected, there are fewer non-underlying items than the prior period and detail is provided as follows:

·; acquisition and disposal related costs in the period were £0.7m (2018: £2.1m).

·; a £0.8m gain arose upon disposing of our Airport Systems business from the Aerospace & Land division in February 2019 and our Corvid Paygate business from the Communications & Security division in June 2019.

·; the net gain on forward foreign exchange contracts and interest rate swap was £2.6m (2018: £5.2m loss).

·; legal charges and expenses include £0.5m of conduct of business investigation costs.

Tax, EPS and dividends

The Group's underlying tax rate(4) in the period decreased to 20.0% (2018: 21.5%), which is consistent with the 2018 underlying tax rate for the full year. The statutory tax rate on IFRS profit before tax is 19.2% (2018: 19.0%).

Underlying earnings per share(1) increased 16.4% to 52.5p (2018: 45.1p), reflecting the increase in profit and reduced number of shares in issue compared to the prior period. The weighted average number of shares in issue was 70.9m (2018: 76.0m). Basic earnings per share increased to 43.3p (2018: 20.0p). During the period, the Group spent £8.6m to re-purchase 0.6m ordinary shares at an average of £13.41 per share. At 30 June 2019 the number of shares in issue was 70,835,807.

An interim dividend of 15.0p (2018: 14.6p) is proposed, representing growth of 2.7% on the prior year, with the interim dividend being covered 3.5 times (2018: 3.1 times) by underlying earnings per share. The dividend will be paid on 20 September 2019 to shareholders on the register at 30 August 2019.

Operating cash flow and working capital

Cash generated by operations was £25.8m (2018: £13.1m), as a result of increases in working capital. Underlying operating cash flow(1) was £13.4m (2018: £6.5m) resulting in underlying operating cash conversion of 25% (2018: 14%). Capital expenditure, including continuing Enterprise Resource Planning ('ERP') systems implementation, increased to £8.4m (2018: £8.1m). The ERP programme remains on track with three more implementations successfully going live so far during 2019 and more projects expected to commence later in the year. Working capital increased by £32.6m principally due to reduced payables and increased receivables reflecting the previously announced working capital normalisation. Increases in inventory reflect revenue growth in the period, as well as purchases required to supply orders in the second half of the year.

Net debt

Ultra's net debt(3), excluding finance leases, at the end of the period was £171.0m (2018: £170.1m) and net debt/EBITDA was 1.32 times (2018: 1.39 times). The net debt figure including finance leases, which have been brought onto the balance sheet following the adoption of IFRS 16 from 1 January 2019, was £208.2m and net debt/EBITDA calculated on this IFRS 16 basis was 1.50 times.

£8.6m was spent in the period to re-purchase 0.6m ordinary shares. In total, Ultra has bought back and cancelled c.£100m of Ultra shares at an average cost of £14.42, and (as previously announced) the buyback has now ceased. Initial proceeds of £21m were received in the period from the disposals of the Airport Systems and Corvid Paygate businesses.

New unsecured loan notes of US$70m were issued by Prudential Investment Management Inc ("Pricoa") in January 2019, which expire in January 2026 and January 2029. On the same date, $60m of expiring Pricoa debt was repaid. £62m of our Term Loan was repaid during the period with the balance (£67m) repaid on 31 July 2019. Consequently, the Group's committed facilities now comprise the £300m revolving credit facility, which has a maturity to November 2023 (and can be extended to November 2024 subject to lender consent) as well as Pricoa loan notes: £50m with an expiry date of October 2025 and $70m with expiry dates as noted above.

Conduct of business investigations update

As previously announced, the SFO is continuing to investigate a conduct of business issue in Algeria by Ultra Electronics Holdings plc ('Ultra'), its subsidiaries, employees and associated persons. The investigation commenced in April 2018 following a voluntary self-report made by Ultra to the SFO. In addition, Ultra is investigating another conduct of business issue associated with the Philippines and is keeping the relevant authorities informed.

Updates to technical guidance

·; As disclosed in note 11 of our 2018 Annual Report, the Group is monitoring developments relating to the European Commission decision that the UK CFC rules are partial State Aid. The UK Government has appealed the decision and requested certain information from recipients including Ultra but not yet provided details of how it will quantify and seek to recover State Aid. Our potential exposure is between £0m - £20m. We do not currently expect this exposure to be resolved in the near term;

·; Tax guidance remains unchanged at 20% for 2019;

·; We have made significant progress implementing a more rigorous assessment of investment and return analysis in R&D. Total investment in our own R&D has increased in the period and is likely to be 3.5% - 4% of revenue in 2019 (2018: 3.7%). The impact on margins of this lower than originally guided R&D spend in 2019 will likely be offset by a greater proportion of development contracts, some of which are sole source, versus 2018. Long term guidance for R&D spend remains at 4-5% of revenue;

·; Increased radio sales, improving Energy performance and a better sonobuoy mix are expected to improve underlying operating margins in H2; and

·; Total capital expenditure is expected to be in the range of £20m - 25m in 2019 (2018 £18.3m).

OPERATIONAL AND DIVISIONAL REVIEW

Aerospace & Infrastructure (26% of Group revenue for the 6 months ended 30 June 2019)

Specialist provider of products, sub-systems and solutions delivering critical detection, instrumentation and control capability for aerospace and energy applications.

Markets

The defence aerospace market is showing strong signs of growth, driven by increased US defence spending and the ramp up of the F-35 Joint Strike Fighter programme. Additionally, forecast growth in platforms on which Ultra has secure positions are driving growth. The civil aerospace market also continues to grow, particularly in developing nations where there is an increasing need to meet growing air passenger traffic. Ultra remains well-positioned on a wide range of long term military and civil aerospace platforms, including the F-35 programme and several Airbus and Boeing commercial aircraft.

Performance

Revenue grew, despite the disposal of the Airport Systems business early in the year, reflecting organic revenue growth in the period. The growth was primarily due to increased activity on military aircraft platforms including the build rate of our high pressure pure air generating (HiPPAG) units for the F-35, although this growth was at lower than group average margins. Underlying operating profits declined in the first half due to:

·; In H1 2018 this division benefited from £1.2m of foreign exchange gains; these were not repeated in 2019 following the previously announced adoption of the revised hedging strategy to reduce income statement volatility.

·; Restructuring costs and higher spend on R&D, as we invest in programmes to support future growth.

·; Product mix in our Energy business with some higher margin activity delayed into the second half of the year and increasing competition in the Chinese nuclear market.

As a result, the H1 underlying operating margin was 11.2% vs 16.1% last year.

The division's order book grew organically, but decreased £33.5m since December 2018 due to the £36.4m Airport Systems order book removal upon disposal. The larger orders won in the period were:

1) A £17m low-rate/initial-production three-year contract by Pratt & Whitney to provide equipment for ice protection for the F135 military engine.

2) Multiple awards from Boeing totaling over £10m to provide wing ice protection controllers and harnesses on the B787 commercial aircraft.

Communications & Security (30% of Group revenue for the 6 months ended 30 June 2019)

Specialist provider of mission-critical solutions for C3, cyber, encryption and electronic warfare applications.

Markets

Growing US investment and rising regional tensions in the Pacific have led to a significant increase in the adoption of Communications & Security systems and equipment. The Communications & Security and cyber market is expected to grow considerably over the next five years. This growth is driven by growing demand for military communications infrastructure, cybersecurity functionality and application of new technologies. Ultra is well-positioned on a broad range of C3 and cyber applications and remains well-placed to deliver solutions that already encompass future market technologies.

Performance

This division's revenue grew organically, benefitting from strong sales of ADSI (Air Defence Systems Integrator) tactical command and control systems, and greater demand for electronic warfare and microwave products.

Underlying operating profit grew 44.6% in the period, however, when the cost overrun impact at Herley in H1 2018 is excluded, operating profit declined by 18.9% versus H1 2018. This was predominantly due to lower international forensic product system shipments, and the reduced radio sales of the ORION radio systems in H1 for the US Army's Network Modernisation programme.

The division won a number of contracts during the period including two larger ones that are noted below. The order book reduced versus H1 2018 reflecting a strong prior year comparator. The order book however still grew by £29.3m versus 31 December 18. The larger orders won in the period were:

1) A $497m indefinite-delivery/indefinite-quantity (IDIQ) contract to provide the US Army with Orion radio systems with an initial order of $16.5m.

2) A five-year framework contract from the U.S. Bureau of Alcohol, Tobacco, Firearms and Explosives (ATF), valued at over US$85 million for the provision of hardware, software, support and training services to ATF's National Integrated Ballistic Information Network (NIBIN).

Maritime & Land (44% of Group revenue for the 6 months ended 30 June 2019)

Specialist provider of high-integrity systems and solutions for a broad range of predominantly military maritime and land-based requirements.

Markets

Global maritime budgets remain strong as geopolitical disputes endure. Rising tensions in Asia-Pacific in particular, have led to increased investment in naval platforms and underwater warfare systems, elsewhere, the US is expected to have a strong pipeline of new-build surface ship and submarine platforms. Ultra is well positioned to benefit from the projected growth in the maritime market in the coming years, with world-class products, capabilities and strong positions on a broad range of long term programmes.

Performance

This division's revenue also grew organically, driven by the recently won Next Generation Surface Search Radar (NGSSR) development contract and maritime propulsion system activity. Demand also remains positive for Ultra's US sonobuoys. Shortly after the period end, the ERAPSCO JV was awarded a five year $1bn IDIQ for sonobuoys to the US Navy. Whilst operating margins remained similar to last year, this division has an increasing volume of cost-plus type contracts.

The division's order book increased £34.4m since December 2018, owing in part to the orders noted below:

1) The signing of a significant contract with Lockheed Martin Canada as the Underwater Warfare Integrated Product Team lead for the Canadian Surface Ship Combatant (CSC) programme. As part of Canada's Combat Ship Team, Ultra will provide a Towed Low-Frequency Active Sonar as well as its latest hull-mounted sonar; Ultra will also lead the integration of these sensors with sonobuoys and other Underwater Warfare capabilities to provide wide-area underwater battlespace surveillance.

2) Ultra was awarded an initial $5.5m contract for the US Navy NGSSR Production Programme. This development and qualification contract has a potential total value of over $34m and will provide navigation and general surface search radar functionality on all US Navy ships.

3) The award of a ten-year contract with the UK Ministry of Defence for support of its fleet of 16 Surface Ship Torpedo Defence Systems.

DIVIDEND

The Board has implemented a progressive dividend policy with a through cycle target of circa two times normalised cash and earnings cover, signalling confidence in the Group's future prospects. The 2019 proposed interim dividend is 15.0p. The dividend will be paid on 20 September 2019 to shareholders on the register at 30 August 2019.

Ultra Electronics Holdings plc

Results for the Six Months Ended 30 June 2019

Consolidated Unaudited Income Statement

All results are derived from continuing operations.

Ultra Electronics Holdings plc

Results for the Six Months Ended 30 June 2019

Consolidated Unaudited Cash Flow Statement

Ultra Electronics Holdings plc

Results for the Six Months Ended 30 June 2019

Consolidated Unaudited Statement of Changes in Equity

Equity attributable to equity holders of the parent

Ultra Electronics Holdings plc

Results for the Six Months Ended 30 June 2018

Consolidated Unaudited Statement of Changes in Equity

Equity attributable to equity holders of the parent

Ultra Electronics Holdings plc

Results for the Twelve Months Ended 31 December 2018

Consolidated Statement of Changes in Equity

Equity attributable to equity holders of the parent

Ultra Electronics Holdings plc

Results for the Six Months Ended 30 June 2019

Notes to the Consolidated Unaudited Interim Financial Statements

1. General information

The information for the year ended 31 December 2018 does not constitute statutory accounts as defined in section 435 of the Companies Act 2006. A copy of the statutory accounts for that year has been delivered to the Registrar of Companies. The auditor's report on those accounts was not qualified, did not include a reference to any matters to which the auditor drew attention by way of emphasis without qualifying the report and did not contain statements under section 498 (2) or (3) of the Companies Act 2006.

These interim financial statements, which were approved by the Board of Directors on 7 August 2019, have not been audited or reviewed by the Auditor.

2. Accounting policies

The annual financial statements of Ultra Electronics Holdings plc are prepared in accordance with International Financial Reporting Standards (IFRS) as adopted by the European Union. The condensed consolidated financial statements included in this half-yearly financial report have been prepared in accordance with the Disclosure and Transparency Rules of the Financial Conduct Authority and International Accounting Standard 34 'Interim Financial Reporting' as adopted by the European Union.

The same accounting policies, presentation and methods of computation are followed in the condensed set of financial statements as applied in the Group's latest annual audited financial statements. The following Standards and interpretations were adopted as at 1 January 2019:

·; IFRS 16 - Leases

IFRS 16

Background

IFRS 16 Leases came into effect on 1 January 2019 and replaced IAS 17 and IFRIC 4. IFRS 16 requires that all leases and the related rights and obligations should be recognised on the lessee's Balance Sheet, unless the lease is less than one year in length or is for a low value asset. Leases that do not meet these criteria are expensed on a straight-line basis.

For each lease, a liability for lease obligations to be incurred in the future must be recognised. Correspondingly, a right-of-use asset is capitalised. The asset and liability are initially measured at the present value of all future lease payments plus directly attributable costs.

Under IFRS 16, previous lease charges (recognised in gross profit or indirect costs) are replaced with depreciation on the right-of-use asset and interest on the lease liability in the consolidated income statement. In addition, the cash impact of the lease is split between the principal and interest, with net cash flow remaining unchanged to pre-IFRS 16 cash flow.

The Group has made use of the practical expedient available on transition to IFRS 16 not to reassess whether a contract is or contains a lease.

Therefore, the definition of a lease in accordance with IAS 17 and IFRIC 4 continues to apply to those leases entered or modified before 1 January 2019. For leases entered into or modified on or after 1 January 2019, a contract will be determined as a lease if the Group has control of the leased asset, as defined by IFRS 16. The following practical expedients, permitted by IFRS 16, have also been utilised:

·; The application of a single discount rate to a portfolio of similar characteristic leases;

·; Reliance on prior IAS 37 assessments of onerous leases as an alternative to performing an impairment review on transition;

·; The use of hindsight: for property leases with historical extension option exercise dates, hindsight was applied such that the initial lease period also includes the extension period. Similarly, if the exercise date for a termination option had already passed by the transition date, it was assumed that the termination option was not exercised.

For the measurement of the right-of-use assets at the date of transition, initial direct costs were not taken into account. Additionally, the Group had one sublet that was determined as a finance lease and therefore the opening lease liability and right-of-use asset were adjusted for the sublease income for this property as required under IFRS 16. For the measurement of the lease liabilities at the date of first time application the value was adjusted for any prepaid or accrued lease payments.

Initial recognition

The Group has adopted the modified retrospective approach and has recognised the cumulative effect of applying IFRS 16 at the 1 January 2019 transitional date. The prior period has not been restated; the adjustment to opening retained earnings of £1.3m (£1.7m before tax) at 1 January 2019 is reflected in the Consolidated Statement of Changes in Equity.

The Group's impacted leases relate to real estate, vehicles, printers & copiers and other equipment. The Group therefore chose to split the leases between the following categories: Property and Non-property. The table below sets out the 1 January 2019 opening balance sheet impact arising from the adoption of IFRS 16:

The following reconciliation to the opening balance for the lease liabilities as at 1 January 2019 is based upon the operating lease obligations disclosed in the Group annual report as at 31 December 2018:

The lease liabilities were discounted as at 1 January 2019; the weighted average discount rate was 3.7% for property leases and 2.7% for non-property leases. The Group's property leases range from one year to 25 years in length and are based primarily in the UK, North America and Canada. The Group's non-property leases range from one year to seven years.

The Group recognises a right-of-use asset and a lease liability at the lease commencement date. The asset and liability are initially measured at the present value of all future lease payments plus directly attributable costs. Payments made before the commencement date and incentives received from the lessor are also included in the carrying amount of the right-of-use asset. The asset is then amortised over the useful life of the lease on a straight-line basis. Further details on the valuation of the right-of-use asset and the lease liability and the discount rate applied in calculating the present value are discussed below.

During the six months ended 30 June 2019, in relation to leases under IFRS 16, the Group recognised depreciation of £4.6m and an interest expense of £0.7m.

Short term leases and leases of low value assets

The Group has elected not to recognise leases that are less than one year in length or are for a low value asset (eases are expensed on a straight-line basis as short term leases or leases of low value assets.

Valuation of lease liabilities and right-of-use assets

IFRS 16 requires the Group to make judgments that impact the initial valuation of the lease liabilities and the right-of-use assets. These judgments include: determining what contracts are in scope of IFRS 16, determining the lease contract term and determining the interest rate used for discounting future cash flows.

The lease term is the non-cancellable period of the lease contract. It can also be impacted by periods covered by an option to extend the lease if the Group is reasonably certain that it will exercise that option. For lease contracts with an indefinite term the Group estimates the length of the contract to be equal to the economic useful life of the asset or typical market contract term. The lease term is used to determine the depreciation rate of right-of-use assets.

For property leases, the Group has assumed that for leases that are due to expire within three years of the transition date that these will be renewed for the same length of time as the initial lease term, except where lease specific non-renewal information was already known at the transition date.

The lease liability is measured at amortised cost using the effective interest method. The present value of the lease payment is determined using the discount rate. The Group has used two discount rates for each country the lease is based in; one for property and one for non-property leases. The discount rate is determined based on: 1) the risk free rate on government bonds in the location and currency of the lease over a similar term as the lease; 2) the Group's borrowing rate; and 3) an asset specific premium. Discount rates remain the same throughout the lease unless the lease term or renewal assumptions change and range between 0.5% and 11.9%.

Onerous lease provisions are offset against the right-of-use asset and replaced by an annual assessment of impairment on the right-of-use assets in accordance with IAS 36. Additionally, under IFRS 16, lease incentives (e.g. rent free periods) will be recognised as part of the measurement of the right-of-use asset and lease liability, rather than recognised as a separate liability as under IAS 17.

The lease liability and right-of-use asset are remeasured when there is a change in the future lease payments arising from a change in the expected lease term, or a change in the estimated total cost of the lease.

Subletting

The Group sublets some property space to third parties. For these sublets, the Group first determines if the sublet lease is an operating or finance lease. This is determined as a finance lease if substantially all of the risks and rewards of the property are transferred to the lessee through the lease, otherwise it is classified as an operating lease.

When the sublease is considered as a finance lease, the discounted value of the cash income from the sublet is deducted from the right-of-use asset and liability of the Group's lease ("head lease") for that property unless the head lease is a short lease or a low value asset lease.

If the sublease is considered an operating lease, then the payments received from the lease are recognised as income on a straight-line basis.

3. Segment information

(i) Revenue by segment

(ii) Profit by segment

Significant legal charges and expenses include £463,000 (2018: £934,000) of anti-bribery and corruption investigation costs and £206,000 (2018: nil) on legal charges relating to the Ithra contract. Unallocated items are specific corporate level costs that cannot be allocated to a specific division. 

 (iii) Total assets by segment

Unallocated assets represent current and deferred tax assets, derivatives at fair value, cash and cash equivalents.

(iv) Total liabilities by segment

Unallocated liabilities represent derivatives at fair value, current and deferred tax liabilities, retirement benefit obligations, bank loans and loan notes.

(v) Revenue by destination

4. Additional performance measures

To present the underlying profitability of the Group on a consistent basis, year-on-year, additional performance indicators have been used. These are calculated as follows: